SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C.  20549

 

FORM 10-Q

 

(Mark One)

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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended June 30, 2003

 

OR

 

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
		For the transition period from              to

 

Commission File Number 0-22718

 

ZAMBA CORPORATION

(Exact name of Registrant as specified in its charter)

 

 

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

YES

ý

NO

o

 

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

YES

o

NO

ý

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of August 8, 2003.

 

 

 

ZAMBA CORPORATION

 

INDEX

 

PART I — Financial Information
Item 1.	Financial Statements (Unaudited)
	Consolidated Statements of Operations for the Three and Six Months Ended June 30, 2003 and 2002
	Consolidated Balance Sheets as of June 30, 2003 and December 31, 2002
	Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2003 and 2002
	Notes to Consolidated Financial Statements
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3.	Quantitative and Qualitative Disclosures About Market Risk
Item 4.	Disclosure Controls and Procedures
PART II — Other Information
Item 1.	Legal Proceedings
Item 2.	Changes in Securities and Use of Proceeds
Item 3.	Defaults Upon Senior Securities
Item 4.	Submission of Matters to a Vote of Security Holders
Item 5.	Other Information
Item 6.	Exhibits and Reports on Form 8-K
Signatures

 

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Part I. Financial Information

Item 1:  Financial Statements

ZAMBA CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

 

(In thousands, except per share data)

 

		Three months ended June 30,						Six months ended June 30,
		2003			2002			2003			2002
Revenues:
Professional services		$	2,601		$	2,230		$	5,111		$	5,230
Reimbursable expenses		253			283			517			518
Total revenue		2,854			2,513			5,628			5,748
Costs and expenses:
Project and personnel costs		1,513			2,596			2,955			5,917
Reimbursable expenses		253			283			517			518
Sales and marketing		275			478			524			1,336
General and administrative		764			2,161			1,546			4,576
Restructuring and unusual charges		—			1,636			—			3,321
Total costs and expenses		2,805			7,154			5,542			15,668
Income (loss) from operations		49			(4,641		)	86			(9,920		)
Other income (expense):
Gain on sale of NextNet shares		750			2,655			2,603			2,655
Interest income		—			3			—			11
Interest expense		(20		)	(59		)	(47		)	(124		)
Other income (expense), net		730			2,599			2,556			2,542
Income (loss) before extraordinary item		779			(2,042		)	2,642			(7,378		)
Extraordinary gain from extinguishment of debt		—			—			198			—
Net income (loss)		$	779		$	(2,042	)	$	2,840		$	(7,378	)
Basic net income (loss) per share:
Income (loss) before extraordinary item		$	0.02		$	(0.05	)	$	0.07		$	(0.19	)
Extraordinary gain from extinguishment of debt		—			—			—			—
Basic net income (loss) per share:		$	0.02		$	(0.05	)	$	0.07		$	(0.19	)
Diluted net income (loss) per share:
Income (loss) before extraordinary item		$	0.02		$	(0.05	)	$	0.07		$	(0.19	)
Extraordinary gain from extinguishment of debt		—			—			—			—
Diluted net income (loss) per share		$	0.02		$	(0.05	)	$	0.07		$	(0.19	)
Weighted average shares outstanding:
Basic		38,832			38,938			38,827			37,998
Diluted		40,130			38,938			40,125			37,998

 

The accompanying notes are an integral part of the consolidated financial statements.

 

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ZAMBA CORPORATION

CONSOLIDATED BALANCE SHEETS

(Unaudited)

 

(In thousands, except per share data)

 

		June 30, 2003			December 31, 2002
ASSETS
Current assets:
Cash and cash equivalents		$	345		$	549
Accounts receivable, net		1,787			662
Unbilled receivables		386			470
Prepaid expenses and other current assets		219			507
Total current assets		2,737			2,188
Property and equipment, net		449			531
Other assets		90			102
Total assets		$	3,276		$	2,821
LIABILITIES AND STOCKHOLDERS’ EQUITY (DEFICIT)
Liabilities:
Line of credit		$	875		$	298
Short-term loan		—			1,000
Current installments of long-term debt		4			266
Accounts payable		171			584
Accrued expenses		1,450			2,593
Deferred revenue		150			57
Deferred gain on sale of NextNet shares		—			25
Total current liabilities		2,650			4,823
Long-term debt, less current installments		—			164
Other long-term liabilities		110			164
Commitments and contingencies
Total liabilities		2,760			5,151
Stockholders’ equity (deficit):
Common stock, $0.01 par value, 120,000 shares authorized, 38,840 and 38,823 shares issued and outstanding at June 30, 2003 and December 31, 2002, respectively		388			388
Additional paid-in capital		86,067			86,060
Accumulated deficit		(85,939		)	(88,778		)
Total stockholders’ equity (deficit)		516			(2,330		)
Total liabilities and stockholders’ equity (deficit)		$	3,276		$	2,821

 

The accompanying notes are an integral part of the consolidated financial statements.

 

4

 

ZAMBA CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

(In thousands)

 

		Six months ended June 30,
		2003			2002
Cash flows from operating activities:
Net income (loss)		$	2,840		$	(7,378	)
Adjustments to reconcile net income (loss) to net cash used in operating activities:
Depreciation and amortization		160			257
Non-cash compensation - forgiveness of director loan		—			443
Provision for bad debts		—			20
Gain on disposal of fixed assets		(7		)	—
Gain on sale of NextNet shares		(2,603		)	(2,655		)
Extraordinary gain on extinguishment of debt		(198		)	—
Changes in operating assets and liabilities:
Accounts receivable		(1,125		)	169
Unbilled receivables		84			252
Notes receivable		—			535
Prepaid expenses and other assets		266			107
Accounts payable		(413		)	57
Accrued expenses and other long-term liabilities		(1,180		)	2,095
Deferred revenue		93			(4		)
Net cash used in operating activities		(2,083		)	(6,102		)
Cash flows from investing activities:
Purchase of property and equipment		(41		)	(49		)
Proceeds from sale of NextNet shares		750			2,965
Proceeds from sale of equipment		9			1
Restricted cash					366
Notes receivable - related parties		—			220
Net cash provided by investing activities		718			3,503
Cash flows from financing activities:
Line of credit, net		577			(405		)
Advance from director		—			450
Proceeds from short-term loan		750			—
Proceeds from sale of common stock		3			1,710
Proceeds from exercises of stock options		—			13
Payments of long-term debt		(169		)	(139		)
Net cash provided by financing activities		1,161			1,629
Net decrease in cash and cash equivalents		(204		)	(970		)
Cash and cash equivalents, beginning of period		549			1,326
Cash and cash equivalents, end of period		$	345		$	356
Supplemental Schedule for Disclosures of Cash Flow Information:
Cash paid during the period for interest		$	37		$	124
Non-cash investing and financing activity:
Conversion of note payable into sale of NextNet shares		$	1,750		$	—
Conversion of long-term debt into sale of NextNet shares		$	71		$	—

 

The accompanying notes are an integral part of the consolidated financial statements.

 

5

 

ZAMBA CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

 

Note A.  Basis of Presentation:

 

The unaudited consolidated financial statements of Zamba Corporation as of June 30, 2003, and for the three and six month periods ended June 30, 2003 and 2002, reflect all adjustments (which include only normal recurring adjustments, except as disclosed in the footnotes) necessary, in the opinion of management, to fairly state our financial position as of June 30, 2003, and our results of operations and cash flows for the reported periods.  The results of operations for any interim period are not necessarily indicative of the results to be expected for any other interim period or for the full fiscal year.  The year-end balance sheet data was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States of America.  Certain prior year amounts have been reclassified to conform with the 2003 presentation.  These financial statements should be read in conjunction with our audited consolidated financial statements and related notes for the year ended December 31, 2002, which were included in our 2002 Annual Report on Form 10-K.

 

Note B.  Liquidity:

 

We had working capital of $87,000 as of June 30, 2003, an improvement from the negative working capital of $709,000 as of March 31, 2003. We had stockholders’ equity of $516,000 as of June 30, 2003, an improvement from the stockholders’ deficit of $266,000 as of March 31, 2003.  To partially fund our operations during the first and second quarters of 2003, we utilized $1.5 million received from the sales of shares of NextNet Wireless, Inc. Series A Preferred Stock.  These funds were received in transactions with Entrx Corporation (“Entrx”) and two private investors.  We received $750,000 in the first quarter of 2003 as part of a loan agreement we entered into with Entrx during the fourth quarter of 2002.  The amounts received under the loan were originally classified as a note payable, which then was converted into 415,340 shares of our NextNet Series A Preferred Stock on March 31, 2003 at a price of $4.23 per share.  See Note K for additional discussion of this transaction.  We also received $750,000 in the first quarter of 2003 from two private investors in exchange for an aggregate of 177,306 shares of NextNet Series A Preferred Stock at a price of $4.23 per share.  See note H for additional discussion of this transaction.

 

Cash used in operating activities was $2.08 million for the six months ended June 30, 2003 and resulted primarily from an increase of $1.13 million in accounts receivable and a decrease of $1.18 million in accrued expenses.  The increase in accounts receivable resulted mainly due to the timing of billings and collections during the quarter.  A higher than typical proportion of billing occurred in the last half of the second quarter compared with the first half of the second quarter, which resulted in collections of those invoices after the end of the second quarter.  The decrease in accrued expenses resulted mainly from payments related to office and furniture lease termination settlement agreements negotiated over the past year.  The remaining payments related to these settlements total $273,000, and will be paid through October 2003.

 

We partly fund our operations through our Accounts Receivable Purchase Agreement with Silicon Valley Bank.  This agreement was renewed on July 29, 2003 and expires on July 29, 2004. However, both parties have the right to terminate this Agreement at any time.  See Note G for additional discussion.

 

Our ability to continue as a going concern depends upon our ability to sustain profitability, continue to access our borrowing facility with our bank, and obtain any additional funding that may be needed.

 

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Note C. Selected Balance Sheet Information:

 

(in thousands)		June 30, 2003			December 31, 2002
Accounts receivable, net:
Accounts receivable		$	1,931		$	806
Less allowance for doubtful accounts		(144		)	(144		)
Totals		$	1,787		$	662
Property and equipment, net:
Computer equipment		$	816		$	802
Furniture and equipment		293			286
Leasehold improvements		60			60
Totals		1,169			1,148
Less accumulated depreciation and amortization		(720		)	(617		)
Totals		$	449		$	531

 

Note D.  Net Income (Loss) Per Share:

 

Basic income (loss) per share is computed based on the weighted average number of common shares outstanding.  Diluted income (loss) per share is computed based on the weighted average number of common shares outstanding adjusted by the number of additional shares that would have been outstanding had the potentially dilutive common shares been issued.  Potentially dilutive shares of common stock include stock options.  A total of 1.3 million and 0 additional shares were included in the diluted income (loss) per share calculation at June 30, 2003 and 2002, respectively. The calculation of weighted average diluted shares outstanding excludes options for approximately 2.3 million common shares at June 30, 2003, as the exercise price of those options was greater than the average market price, resulting in an anti-dilutive effect on diluted earnings per share.

 

Note E.  Recent Accounting Standards:

 

In May 2003, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.”  SFAS No. 150 establishes standards for issuer classification and measurement of certain financial instruments with characteristics of both liabilities and equity.  Instruments that fall within the scope of SFAS No. 150 must be classified as a liability.  SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003.  For financial instruments issued prior to June 1, 2003, SFAS No. 150 is effective in the third quarter of 2003.  Adoption of SFAS No. 150 is not expected to have an impact on our financial position, results of operations or cash flows.

 

In January 2003, the FASB issued Statement of Financial Accounting Standards No. 148, “Accounting for Stock-Based Compensation - Transition and Disclosure” (“SFAS 148”).  SFAS 148 amends FASB Statement of Financial Accounting Standards No. 123,  “Accounting for Stock-Based Compensation”  (“SFAS 123”) to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation.  In addition, SFAS 148 amends the disclosure requirements of SFAS 123 to require prominent disclosures in both annual and interim financial statements of the method of accounting for stock-based employee compensation and the effect of the method used on reported results.  SFAS 148 is effective for fiscal years beginning after December 15, 2002 and was adopted by Zamba for all periods presented herein.  Zamba did not change to the fair value based method of accounting for stock-based employee compensation; therefore, adoption of SFAS 148 will only impact disclosures, not the financial results, of Zamba.

 

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Note F.   Restructuring and Unusual Charges:

 

We incurred restructuring and unusual charges in 2002 that significantly reduced our ongoing cost structure.  In the first quarter of 2002, we incurred unusual charges of $1.69 million for facility and employment matters.  Included in this amount was a $1.34 million charge related to closing our Campbell, California, and Colorado Springs, Colorado facilities.  These transactions have resulted in annual cost savings of $1.0 million.  In addition, a $350,000 charge was taken for severance pay relating to reduced headcount, including the separation of three vice presidents, in the first quarter of 2002.  These headcount reductions have resulted in annual savings of $3.5 million.

 

In the second quarter of 2002, we incurred unusual charges of $1.64 million for facility and non-cash compensation matters. Included in this amount was a $1.19 million charge for facility closings and lease termination costs.  The facility charges included $190,000 for closing the Boston, Massachusetts, facility, $290,000 for reducing the amount of space leased in Minneapolis, Minnesota, and $713,000 for increasing the accrual for our St. Paul, Minnesota and Campbell, California facilities to amounts consistent with buy-out offers made by our landlords.  These charges have resulted in annual savings of $1.2 million.  We also incurred a $443,000 non-cash compensation charge arising out of the exercise by Paul Edelhertz, a member of our board of directors, of his right to assign to us an aggregate of 250,000 shares of our common stock in exchange for our cancellation of a promissory note issued to us by Mr. Edelhertz bearing a principal balance of $500,000 and accrued interest through the date of cancellation of $43,250.  This transaction related to an agreement dated December 26, 2000, as amended on August 2, 2001.

 

A summary of restructuring and unusual charge activity through June 30, 2003 is as follows:

 

		Facility Closings and Lease Termination Costs			Severance and Other Employee Related Costs			Other			Total
Fourth Quarter 2000 Provision		$	240,000		$	307,000		$	206,000		$	753,000
2000 Utilized		—			(137,000		)	(206,000		)	(343,000		)
Balance as of December 31, 2000		240,000			170,000			—			410,000
Second Quarter 2001 Provision		1,173,000			900,000			115,000			2,188,000
Additional facility related accruals in the fourth quarter of 2001		175,000			—			—			175,000
2001 Utilized		(786,000		)	(1,070,000		)	(115,000		)	(1,971,000		)
Balance as of December 31, 2001		802,000			—			—			802,000
First Quarter 2002 Provision		1,335,000			350,000			—			1,685,000
Second Quarter 2002 Provision		1,193,000			—			443,000			1,636,000
Additional severance related accruals in the second quarter of 2002		—			100,000			—			100,000
2002 Utilized		(1,804,000		)	(315,000		)	(443,000		)	(2,562,000		)
Balance as of December 31, 2002		1,526,000			135,000			—			1,661,000
First Quarter 2003 Utilized		(582,000		)	—			—			(582,000		)
Second Quarter 2003 Utilized		(452,000		)	(105,000		)	—			(557,000		)
Balance as of June 30, 2003		$	492,000		$	30,000		$	—		$	522,000

 

Note G.   Line of Credit:

 

On July 29, 2002, we entered into an Accounts Receivable Purchase Agreement with Silicon Valley Bank to replace a prior revolving credit facility we had established with Silicon Valley Bank.  This agreement entitles us to borrow up to a maximum of $2.0 million based on 80% of eligible receivables, and is secured by virtually all of our assets.  Borrowings under this agreement bear interest at a monthly rate of 1% of the average daily balance outstanding during the period.  Additionally, on each reconciliation date, we pay an administrative fee equal to 0.25% of the face amount of each receivable purchased by Silicon Valley Bank during that reconciliation period.  The Accounts Receivable Purchase Agreement was renewed on July 29, 2003 and expires on July 29, 2004.  However, both parties have the right to terminate this Agreement at any time.  If Silicon Valley

 

8

 

Bank decides not to purchase receivables from us, our ability to fund our operations could be materially harmed.  The amount outstanding under this agreement was $875,000 at June 30, 2003.

 

Note H.   Sales of Investments:

 

In the first quarter of 2003, we entered into transactions with private investors in which we sold portions of our equity holdings in NextNet Wireless, Inc.  Our chairman, Joseph B. Costello, is also the chairman of NextNet. Another of our directors, Dixon Doll, is also a director and a shareholder of NextNet.  Additionally, another director of Zamba, Sven Wehrwein, has been a consultant for NextNet.  There have been no other relationships or business transactions between the two companies during this reporting period.

 

On January 27, 2003, we entered into an agreement to pay an unrelated third party $165,000 and transfer 16,667 shares of NextNet Series A Preferred Stock to the third party’s family trust in exchange for cancellation of a debt obligation under which we owed him approximately $434,000 in principal and accrued interest.  As a result, we recorded an extraordinary gain on debt extinguishment of approximately $198,000 and a gain on sale of NextNet shares of $71,000 in the first quarter of 2003.

 

On February 17, 2003, we sold 177,306 shares of NextNet Series A Preferred Stock to two private investors for $750,000.  We recorded a deferred gain on sale of investment in the first quarter of 2003 when we received the cash from these transactions. A gain on sale of investment was recorded in the second quarter of 2003, when the share transfer was completed.  In connection with these sales, we issued a warrant to purchase up to 125,000 additional shares of NextNet Series A Preferred Stock to an investor affiliated with a prior purchaser of NextNet shares.  This warrant bears an exercise price of $6.00 per share and may be exercised any time prior to the close of business on December 31, 2004.

 

We transferred 415,340 shares of our NextNet Series A Preferred Stock to Entrx Corporation on March 31, 2003, pursuant to a loan agreement we entered into with Entrx on November 5, 2002.  See Note K for more information regarding our transaction with Entrx.

 

All NextNet shares that we sell are subject to the right of first refusal on the parts of NextNet and the holders of the Series B Preferred Stock of NextNet.

 

As of June 30, 2003, we owned approximately 700,000 shares of NextNet Series A Preferred Stock, or approximately 6% of the outstanding equity in NextNet.  Of our remaining shares, we have issued three warrants to two private investors to purchase up to 148,337 additional shares of our NextNet Series A Preferred Stock from us at a price of $6.00 per share.  A warrant to purchase up to 125,000 shares expires on December 31, 2004, and two warrants to purchase a total of 23,337 shares expire on December 31, 2005.

 

Note I. Income Taxes:

 

We have not recorded any current or deferred income tax provision for any of the periods presented since we have a net operating loss carryforward.  Because of the uncertainty about whether we will have taxable earnings in the future, we have not reflected any benefit of such net operating loss carryforwards in the accompanying consolidated financial statements.  At June 30, 2003, we had approximately $84 million of net operating loss carryforwards remaining, which begin to expire starting in 2005.  The use of these carryforwards in any one year may be limited under Internal Revenue Code Section 302 due to significant ownership changes.

 

Note J. Legal Matters:

 

We are subject to various legal proceedings and claims that arise in the ordinary course of business that we do not believe are material either separately or in the aggregate.

 

On June 6, 2003, we reached an agreement with Doug Holden, our former president and CEO, related to a claim for severance he threatened to bring against us following the separation of his employment.  Under the agreement, we will pay Mr. Holden a total of $50,000 in five monthly installments, ending in October 2003.

 

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Note K.  Loan Agreement with Entrx Corporation:

 

On November 5, 2002, we entered into a loan agreement with Entrx Corporation, under which Entrx agreed to lend us up to $2.5 million in three separate advances.  We received the first advance of $1 million on November 4, 2002.  On February 19, 2003, this loan agreement was amended.  In connection with the amendment, we received the second advance of $750,000 but waived the third advance.  Entrx also waived its rights to convert all outstanding advances into shares of our common stock, and terminated an option under the original loan agreement to purchase additional shares of our NextNet.  Entrx also agreed to waive interest charges accruing after December 2002.

 

We received $1.75 million under the loan.  On March 31, 2003, principal and accrued interest was converted into 415,340 shares of NextNet Wireless Series A Preferred Stock. The conversion price was $4.23 per share, which was the per share price (on a common share equivalent basis, without giving effect to differences in rights or to anti-dilution provisions or any other purchase price adjustments set forth in the NextNet loan agreement) that NextNet agreed to receive for a sale of other preferred stock.  Upon conversion, our repayment obligations under the loan were extinguished.

 

Note L.  Major Customers:

 

A portion of our revenues have been derived from significant customers for the three and six month periods ended June 30, 2003 and 2002 as follows:

 

		Three Months Ended June 30,				Six Months Ended June 30,
		2003		2002		2003		2002
Customer 1		24	%	0	%	12	%	0	%
Customer 2		14	%	0	%	21	%	2	%
Customer 3		12	%	16	%	9	%	13	%
Customer 4		10	%	6	%	14	%	8	%
Customer 5		9	%	10	%	9	%	13	%
Customer 6		7	%	23	%	10	%	18	%
Customer 7		7	%	16	%	4	%	7	%

 

Note M.  Stockholders’ Equity:

 

We have chosen to account for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations (APB No. 25).  We account for stock-based compensation to non-employees using the fair value method prescribed by Statements of Financial Accounting Standards (SFAS) No. 123.  Accordingly, compensation costs for stock options granted to employees are measured as the excess, if any, of the value of our stock at the date of the grant over the amount an employee must pay to acquire the stock.  Compensation cost for stock options granted to non-employees is measured as the fair value of the option at the date of grant.  Such compensation costs, if any, are amortized on a straight-line basis over the underlying option vesting terms.

 

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No compensation cost has been recognized for stock options granted to employees or directors under our 1989 Stock Option Plan, 1993 Equity Incentive Plan, 1993 Directors Option Plan, 1997 Stock Option Plan, 1998 Non-Officers Plan, 1999 Non-Officers Plan, 2000 Non-Officers Plan, or 2000 Non-Qualified Plan (collectively referred to as the “Plans”).  Had compensation cost for the Plans been determined based on the fair value of options at the grant date for awards in the three and six month periods ended June 30, 2003 and 2002, our net income (loss) and net income (loss) per share would have changed to the pro forma amounts indicated below:

 

(In thousands, except per share amounts)

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2003			2002			2003			2002
Net income (loss), as reported		$	779		$	(2,042	)	$	2,840		$	(7,378	)
Deduct total stock based employee compensation expense determined under fair value based method for all awards, net of related tax effects		(308		)	(1,900		)	(734		)	(3,800		)
Pro forma net income (loss)		$	471		$	(3,942	)	$	2,106		$	(11,178	)
Earnings per share:
Basic - as reported		$	0.02		$	(0.05	)	$	0.07		$	(0.19	)
Basic - pro forma		$	0.01		$	(0.10	)	$	0.05		$	(0.29	)
Diluted - as reported		$	0.02		$	(0.05	)	$	0.07		$	(0.19	)
Diluted - pro forma		$	0.01		$	(0.10	)	$	0.05		$	(0.29	)

 

In the second quarter, we conducted an option exchange program under which all of our directors, officers and employees could return their existing stock options in exchange for replacement options to be granted at least six months and one day after the conclusion of the exchange program.  The number of replacement options to be received by any individual in exchange for that person’s existing options varies, depending on the exercise prices of the options returned by that person.  Options to purchase approximately 3.9 million shares of common stock were cancelled under the exchange program.  We expect to issue approximately 1.3 million options under our option plans in exchange for the cancelled options.

 

Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Overview

 

Zamba Corporation is a customer care services company.  We help our clients be more successful in acquiring, servicing, and retaining their customers.  Having served over 300 clients, Zamba is focused exclusively on customer-centric services by leveraging best practices and best-in-class technologies to enable insightful, consistent interactions across all customer touch points.  We provide strategy and business process consulting, as well as customization and systems integration for software applications, which we call “packages,” that our clients purchase from third parties.  Based on our expertise and experience, we have created a framework of interdependent processes and technologies to help our clients, including strategy, analytics and marketing, contact center, content and commerce, field sales, field service, and enterprise integration.

 

Our revenues and earnings historically have fluctuated from quarter-to-quarter based on the number, size, and scope of projects in which we are engaged, the contractual terms and degree of completion of such projects, any delays incurred in connection with a project, the adequacy of provisions for losses, the accuracy of estimates of resources required to complete ongoing projects, general economic conditions, and other factors.  Consequently, the results of operations described in this report may not be indicative of results to be achieved in future periods.  In addition, revenues from a large client may constitute a significant portion of our total revenues in any particular quarter.

 

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Results of Operations

 

Three months ended June 30, 2003, compared to the three months ended June 30, 2002

 

Net Revenues

Revenues increased approximately 14% to $2.85 million in the second quarter of 2003 compared to $2.51 million in the second quarter of 2002.  Revenues before reimbursements increased approximately 17% to $2.60 million in the second quarter of 2003 compared to $2.23 million in the second quarter of 2002.  The increase was due primarily to an increase in our average billing rate in the second quarter of 2003 as compared to the second quarter of 2002.

 

Project and Personnel Costs

Project and personnel costs consist primarily of payroll and payroll-related expenses for personnel dedicated to client assignments.  These costs represent the most significant expense we incur in providing client service.  Project costs were $1.51 million or approximately 53% of net revenues in the second quarter of 2003 compared to $2.60 million or approximately 103% of net revenues in the second quarter of 2002.  The decrease in project costs in dollar and percentage of revenue terms between these periods was due primarily to the decrease in our headcount from 70 billable consultants as of June 30, 2002, to 49 billable consultants as of June 30, 2003, and a related improvement in our overall utilization, which is the percentage of all hours worked that were billed by our billable consultants.  In the future, we expect project costs as a percentage of net revenues to be at a level more consistent with the second quarter of 2003 than with the percentage of net revenues in the second quarter of 2002.

 

Reimbursable Expenses

Reimbursable expenses consist of out-of-pocket expenses incurred while providing services that are reimbursed by our clients.  Pursuant to Financial Accounting Standards Board Staff Announcement (Topic No. D-103), reimbursable expenses are separate line items in both revenue and cost of revenue.

 

Sales and Marketing Costs

Sales and marketing costs consist primarily of salaries, employee benefits and travel expenses of sales and marketing personnel, as well as promotional costs.  Sales and marketing expenses were $275,000 or approximately 10% of net revenues in the second quarter of 2003, compared to $478,000 or approximately 19% of net revenues in the second quarter of 2002.  The decrease between these periods was due to a reduction in the number of sales and marketing personnel.

 

General and Administrative Costs

General and administrative costs consist primarily of expenses associated with our management, information technology, training and recruiting, occupancy costs, and finance and administrative groups.  General and administrative expenses were $764,000 or approximately 27% of net revenues in the second quarter of 2003, compared to $2.16 million or approximately 86% of net revenues in the second quarter of 2002.  Key factors in the decrease in general and administrative costs were cost savings of $650,000 in office and equipment lease expenses, a reduction of $300,000 in salaries, and a reduction in expense from the release of an accrual of $85,000 related to a settlement on a severance agreement with our former CEO.

 

Interest Expense

Interest expense was $20,000 in the second quarter of 2003 compared to $59,000 in the second quarter of 2002.  The decrease was due to a decrease in our average borrowings for the quarter related to the credit facility with Silicon Valley Bank and the payoff of a majority of our long-term debt in the first quarter of 2003.

 

Gain on Sale of NextNet Shares

Gain on sale of NextNet shares was $750,000 in the second quarter of 2003 compared to $2.65 million in the second quarter of 2002. This represents a gain on sales of a portion of our shares of NextNet Series A Preferred Stock, as described in Note H of our Notes to Consolidated Financial Statements.

 

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Income Taxes

We have net operating loss carryforwards to utilize against earnings in the future, and therefore, we have not recognized a tax expense on our net income for the three and six month periods ended June 30, 2003.  Because we are uncertain as to whether we will have taxable earnings in the future, we have not reflected any benefit of additional net operating loss carryforwards in the accompanying unaudited consolidated financial statements.

 

Net Income (Loss)

Our net income for the quarter ended June 30, 2003 was $779,000, or $0.02 per share, compared to a net loss for the quarter ended June 30, 2002 of $2.04 million, or $0.05 per share.  Our net income from operations, which does not include the gain on sale of NextNet shares, interest income and interest expense, was $49,000 for the quarter ended June 30, 2003, compared to a net loss from operations of $4.64 million for the quarter ended June 30, 2002.

 

Six months ended June 30, 2003, compared to the six months ended June 30, 2002

 

Net Revenues

Revenues decreased approximately 2% to $5.63 million for the six months ended June 30, 2003 compared to $5.75 million for the six months ended June 30, 2002.  Revenues before reimbursements decreased approximately 2% to $5.11 million for the six months ended June 30, 2003 compared to $5.23 million for the six months ended June 30, 2002.  In conjunction with the decrease in our revenues, our billable headcount decreased to 49 as of June 30, 2003, compared to 70 as of June 30, 2002.

 

Project and Personnel Costs

Project and personnel costs consist primarily of payroll and payroll-related expenses for personnel dedicated to client assignments.  These costs represent the most significant expense we incur in providing client service.  Project costs were $2.96 million or approximately 53% of net revenues for the six months ended June 30, 2003 compared to $5.92 million or approximately 103% of net revenues for the six months ended June 30, 2002.  The decrease in project costs in dollar and percentage of revenue terms between these periods was due primarily to the decrease in our headcount from 70 billable consultants as of June 30, 2002, to 49 billable consultants as of June 30, 2003, and a related improvement in our overall utilization.  In the future, we expect the project costs as a percentage of net revenues to be at a level more consistent with the second quarter of 2003 than with the percentage of net revenues in the second quarter of 2002.

 

Reimbursable Expenses

Reimbursable expenses consist of out-of-pocket expenses incurred while providing services that are reimbursed by our clients.  Pursuant to Financial Accounting Standards Board Staff Announcement (Topic No. D-103), reimbursable expenses are separate line items in both revenue and cost of revenue.

 

Sales and Marketing Costs

Sales and marketing costs consist primarily of salaries, employee benefits and travel expenses of sales and marketing personnel, as well as promotional costs.  Sales and marketing expenses were $524,000 or approximately 9% of net revenues for the six months ended June 30, 2003, compared to $1.34 million or approximately 23% of net revenues for the six months ended June 30, 2002.  The decrease between these periods was primarily due to a reduction in the number of sales and marketing personnel.

 

General and Administrative Costs

General and administrative costs consist primarily of expenses associated with our management, information technology, training and recruiting, occupancy costs, and finance and administrative groups.  General and administrative expenses were $1.55 million or approximately 27% of net revenues for the six months ended June 30, 2003, compared to $4.58 million or approximately 80% of net revenues for the six months ended June 30, 2002.  Key factors in the decrease in general and administrative costs were cost savings of $1.25 million in office and equipment lease expenses, a reduction of $510,000 in salaries, a gain (offset against costs) of $184,000 due to termination of a lease for office furniture and settlement of related litigation, and a reduction in expense from the release of an accrual of $85,000 related to a settlement on a severance agreement with our former CEO.

 

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Interest Expense

Interest expense was $47,000 for the six months ended June 30, 2003 compared to $124,000 for the six months ended June 30, 2002.  The decrease was due to a decrease in our average borrowings for the six month period ended June 30, 2003 related to the credit facility with Silicon Valley Bank and the payoff of a majority of our long-term debt in the first quarter of 2003.

 

Gain on Sale of NextNet Shares

Gain on sale of NextNet shares was $2.60 million for the six months ended June 30, 2003 compared to $2.66 million for the six months ended June 30, 2002. This represents a gain on sales of a portion of our shares of NextNet Series A Preferred Stock, as described in Note H of our Notes to Consolidated Financial Statements.

 

Extraordinary Gain on Extinguishment of Debt

Extraordinary gain on extinguishment of debt was $198,000 for the six months ended June 30, 2003 compared to $0 for the six months ended June 30, 2002.  This represents a gain from an agreement to pay off our long-term debt owed to a third party in the first quarter of 2003.

 

Income Taxes

We have net operating loss carryforwards to utilize against earnings in the future, and therefore, we have not recognized a tax expense on our net income in the first quarter of 2003.  Because we are uncertain as to whether we will have taxable earnings in the future, we have not reflected any benefit of additional net operating loss carryforwards in the accompanying unaudited consolidated financial statements.

 

Net Income (Loss)

Our net income for the six months ended June 30, 2003 was $2.84 million, or $0.07 per share, compared to a net loss for the six months ended June 30, 2002 of $7.38 million, or $0.19 per share.  Our net income from operations for the six months ended June 30, 2003 was $86,000, compared to a net loss from operations for the six months ended June 30, 2002 of $9.92 million.

 

Critical Accounting Policies

 

We have identified the policies below as critical to our business operations and the understanding of our results of operations.  The impact and any associated risks to these policies on our business, financial conditions and results of operations is discussed throughout Management’s Discussion and Analysis of Financial Condition and Results of Operations where these policies affect our reported and expected financial results.  Our preparation of this Form 10-Q requires us to make estimates and assumptions that affect the reported amount of assets and liabilities, disclosure of contingent assets and liabilities as of the date of our financial statements, and the reported amounts of revenue and expenses during the reporting period.  There can be no assurance that actual results will not differ from those estimates.

 

Our critical accounting policies are as follows:

•                  Revenue Recognition;

•                  Allowance for Doubtful Accounts; and

•                  Investment in NextNet Wireless, Inc.

 

For a detailed discussion of the application of these and other accounting policies, see Note 1 of the notes to the consolidated financial statements in our 2002 Annual Report on Form 10-K.

 

Liquidity and Capital Resources

 

At June 30, 2003, we had approximately $345,000 in cash and cash equivalents, compared to $549,000 at December 31, 2002. As of June 30, 2003, we had no significant capital spending or purchase commitments.  We had working capital of $87,000 as of June 30, 2003, an improvement from the negative working capital of $709,000 as of March 31, 2003. We had stockholders’ equity of $516,000 as of June 30, 2003, an improvement from the stockholders’ deficit of $266,000 as of March 31, 2003.

 

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Cash used in operating activities was $2.08 million for the six months ended June 30, 2003 and resulted primarily from an increase of $1.13 million in accounts receivable and a decrease of $1.18 million in accrued expenses.  The increase in accounts receivable resulted mainly due to the timing of billings and collections during the quarter.  A higher than typical proportion of billing occurred in the last half of the second quarter compared with the first half of the second quarter, which resulted in collections of those invoices after the end of the second quarter.  The decrease in accrued expenses resulted mainly from payments related to office and furniture lease termination settlement agreements negotiated over the past year.  The remaining payments related to these settlements total $273,000, and will be paid through October 2003.  For the six months ended June 30, 2002, cash used in operating activities was $6.10 million, which resulted primarily from a loss before depreciation and amortization of $7.12 million and a gain on sale of NextNet shares of  $2.66 million, which was offset by an increase of $2.10 million in accrued expenses and a decrease of $535,000 in notes receivable.

 

Cash provided from investing activities was $718,000 for the six months ended June 30, 2003, and resulted primarily from proceeds from the sale of a portion of our NextNet shares.  For the six months ended June 30, 2002, cash provided from investing activities was $3.50 million, which resulted primarily from proceeds from the sale of a portion of our NextNet shares.

 

Cash provided by financing activities was $1.16 million for the six months ended June 30, 2003 and consisted primarily of $750,000 in cash received from proceeds of a note payable and an increase of $577,000 in borrowings under our line of credit.  For the six months ended June 30, 2002, cash provided by financing activities was $1.63 million, which consisted primarily of cash received from the sale of $1.70 million of common stock and an advance of $450,000 from a director, offset by a decrease of $405,000 in borrowings under our line of credit.

 

Future payments due under debt and lease obligations as of June 30, 2003, are as follows (in thousands):

 

Year Ending December 31,		Accounts Receivable Purchase Agreement			Notes Payable			Non Cancelable Operating Leases			Accrued Lease Settlements			Total
2003		$	875		$	4		$	315		$	273		$	1,467
2004		—			—			556			—			556
2005		—			—			388			—			388
Total		$	875		$	4		$	1,259		$	273		$	2,411

 

On July 29, 2002, we entered into an Accounts Receivable Purchase Agreement with Silicon Valley Bank to replace our prior bank line of credit. This agreement entitles us to borrow up to a maximum of $2.0 million based on 80% of eligible receivables, and is secured by virtually all of our assets.  Borrowings under this agreement bear interest at a monthly rate of 1% of the average daily balance outstanding during the period.  Additionally, on each reconciliation date, we pay an administrative fee equal to 0.25% of the face amount of each receivable purchased by Silicon Valley Bank during that reconciliation period.  This agreement was renewed on July 29, 2003 and expires on July 29, 2004.  However, both parties have the right to terminate this Agreement at any time.

 

We received $750,000 in additional funding in the first quarter of 2003 from Entrx Corporation, to fund our working capital needs.  The amount received was the second installment of a loan agreement under which Entrx agreed to lend us up to $2.5 million in three separate advances.  We received the first advance of $1 million on November 4, 2002.  The second advance was to be made on December 15, 2002, and a third advance was to be made on February 15, 2003, upon the achievement of certain prescribed business milestones by us.  This agreement was amended on February 19, 2003, and the obligation of Entrx to pay the third installment was waived.  We repaid this loan by transferring 415,340 shares of NextNet Series A Preferred Stock to Entrx on March 31, 2003.

 

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We also received $750,000 on February 17, 2003, when we sold shares of NextNet Series A Preferred Stock to two private investors.

 

We believe that our existing cash and cash equivalents, together with cash provided from operations, our borrowings from the Accounts Receivable Purchase Agreement with Silicon Valley Bank, and commitments from two private investors through December 31, 2003, to pay $700,000 for our remaining NextNet shares, if necessary, should be sufficient to meet our working capital and capital expenditure requirements through at least December 31, 2003.  Beyond that date, our ability to continue as a going concern depends on our ability to sustain profitability and generate positive cash flow from operations, continue to access borrowing with our bank, and obtain additional funding, if necessary.

 

We will continue to explore possibilities for additional financing, which may include debt, equity, or other strategic alternatives that may be available to us, including a potential sale of all or a portion of our stock, assets, or remaining investment in NextNet.  We cannot be certain that additional financing will be available to us on favorable terms, if at all. If our financial performance adversely affects our ability to obtain funds secured by our accounts receivable, and we are unable to obtain additional financing, we may not be able to meet our cash requirements beyond December 31, 2003.

 

Item 3.  Quantitative and Qualitative Disclosures About Market Risk

 

We are not currently exposed to market risk from changes in security prices and interest rates. We do not invest in any derivative financial instruments. Excess cash is invested in short-term low-risk vehicles, such as money market investments. Changes in interest rates are not expected to have a material adverse effect on our business, financial condition or results of operations.

 

Item 4.  Disclosure Controls and Procedures

 

Our principal executive officer and principal financial officer have evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by this report. Based on such evaluation, such officers have concluded that, as of the Evaluation Date, our disclosure controls and procedures were effective, in all material respects, to ensure that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported as and when required.

 

There has been no change in our internal control over financial reporting during the most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

Cautionary Statement for Purposes of the ‘Safe Harbor’ Provisions of the Private Securities Litigation Reform Act of 1995

 

Certain statements in this Quarterly Report on Form 10-Q are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. When used in this Quarterly Report on Form 10-Q, the words “may,” “should,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “intends,” “potential” or “continue” and similar expressions are generally intended to identify forward-looking statements. Because these forward-looking statements involve risks and uncertainties, actual results could differ materially from those expressed or implied by these forward-looking statements. These statements are only predictions. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance and/or achievements.

 

Forward-looking statements represent our expectations or beliefs concerning future events, including statements regarding the growth rate of the marketplace for customer-centric solutions, our ability to maintain skills in providing customer-centric solutions, changing client preferences for customer-centric solutions, the ability of our partners to maintain competitive products, the impact of competition and pricing pressures from actual and potential competitors with greater financial resources, the impact of competition and pricing pressures

 

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from actual and potential competitors who have lower-cost operations, such as offshore consulting firms based in India and other countries in Asia and Europe, our ability to obtain large-scale consulting services agreements, possibly lengthy client decision-making processes, our ability to fund operations, our ability to hire and retain competent employees, possible delays in collections of accounts receivable, changes in general economic conditions and interest rates, changes in information technology spending within companies, changes in the global geopolitical situation, sales of our NextNet shares, and other factors identified in our filings with the Securities and Exchange Commission, including those identified in Exhibit 99.01 to this Quarterly Report on Form 10-Q. We disclaim any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

 

PART II.  OTHER INFORMATION

 

Item 1.             Legal Proceedings

 

We are subject to various legal proceedings and claims that arise in the ordinary course of business.  The following is a summary of our current legal proceedings.

 

On June 6, 2003, we reached an agreement with Doug Holden, our former president and CEO, related to a claim for severance he threatened to bring against us following the separation of his employment.  Under the agreement, we will pay Mr. Holden a total of $50,000 in five monthly installments, ending in October 2003.

 

We are also subject to other various legal proceedings and claims that we do not believe are material either separately or in the aggregate.

 

Item 2.             Changes in Securities and Use of Proceeds

 

None.

 

Item 3.             Defaults Upon Senior Securities

 

None.

 

Item 4.             Submission of Matters to a Vote of Security Holders

 

Zamba held its Annual Meeting on June 5, 2003.  One proposal was presented at the Annual Meeting for voting by the stockholders: the election of directors. Each person nominated for director was elected.  Each nominated director received at least 33,651,299 votes in favor of his election, and no more than 416,003 votes were withheld from the election of any director.

 

Item 5.             Other Information

 

None.

 

Item 6.             Exhibits and Reports on Form 8-K

 

(a)                                  Exhibits: (See attached exhibit index)

 

(b)                                 Reports on Form 8-K:

 

On August 1, 2003, we filed a report on Form 8-K, which contained a copy of our press release announcing our financial results for the three and six month periods ended June 30, 2003.

 

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SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

	ZAMBA CORPORATION
	By:	/s/ Norm Smith
		Norman D. Smith
		President and Chief Executive Officer
	By:	/s/ Michael H. Carrel
		Michael H. Carrel
		Executive Vice President and Chief Financial Officer
		(Principal Financial and Accounting Officer)
	Dated: August 13, 2003

 

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EXHIBIT INDEX

 

EXHIBIT NUMBER		TITLE
10.01		Settlement Agreement and Release between Doug Holden and Zamba Corporation, dated June 6, 2003
31.1		Rule 13a-14(a) Certification by Norman D. Smith, President and Chief Executive Officer
31.2		Rule 13a-14(a) Certification by Michael H. Carrel, Executive Vice President and Chief Financial Officer
32.1		Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2		Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
99.01		Cautionary Statement Regarding Forward-Looking Statements

 

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